September 22, 2011 / 8:02 PM / 6 years ago

Brazil moves to protect currency from crisis

SAO PAULO/NEW YORK (Reuters) - Brazil’s central bank unexpectedly acted to halt the currency’s slide on Thursday, highlighting growing concern among officials that the global financial crisis is damaging Brazil’s economy and could cause a potentially destructive spurt in inflation.

The bank’s decision to sell $2.75 billion in currency swaps -- a move that propped up the real -- marked a sudden shift in strategy for a government that has complained for the past year about a “currency war” that left the real badly overvalued compared to its neighbors.

Yet, the real’s massive and sudden depreciation, which has pushed it down 17 percent against the U.S. dollar this month to levels not seen in two years, was apparently too much for the central bank to bear.

President Dilma Rousseff, speaking while on a trip in New York, said that Brazil’s economy is well-equipped to face the global crisis but added that the government was prepared to take additional measures to prevent further abrupt moves in the currency.

“I think things are going to stabilize, but we are ready” to take more measures if necessary, she said.

A member of the government’s economic team told Reuters that officials are concerned about the impact of the falling real on inflation, which is already well above the government’s target range. A weaker real may cause the prices of imported goods to rise, although the official also said that the depressive effects of the global crisis should keep a lid on inflation.

Brazil is in many ways a victim of the crisis, which is centered in Europe and the United States and has punished currencies in several emerging markets as investors seek refuge in the safe haven of the U.S. dollar.

Some of the problems, however, are of Brazil’s making. The central bank’s surprise interest rate cut on August 31 is increasingly perceived by many investors as premature. Prices have continued to rise since the rate cut to about 7.3 percent on a 12-month basis, well above the 6.5 percent ceiling of the bank’s target range.

The bank has defended the move as necessary. Yet some in financial markets fear Brazil has become less committed to the inflation fight, and they have reacted by selling the real more aggressively than other emerging market currencies.

REAL PARES LOSSES

Following the central bank’s move on Thursday, the real reversed most losses that had taken it to the 1.95 per dollar threshold earlier in the session. By mid afternoon, the currency was trading at 1.8850, down 1.37 percent.

That was still an abrupt change in fortune for a currency that just four weeks ago was trading around the 1.55 per dollar mark and had Finance Minister Guido Mantega threatening further measures to keep the currency from strengthening.

The mood remained gloomy in Brazil's stock market, with the Bovespa .BVSP index down about 4.8 percent, outpacing losses in Mexico and Argentina as global equities declined nearly everywhere.

Brazil’s move to stabilize the real echoed a similar decision in Indonesia, where the central bank intervened on Thursday to prop up the rupiah.

    Peru’s central bank also offered to sell dollars on Thursday to support its weakening currency.

    The depreciation of the real may end up helping manufacturers, who have largely missed out on Brazil’s economic boom in recent years because of the overvalued currency.

    But the suddenness of the real’s fall could damage Brazil by punishing companies that have borrowed in dollars and by disturbing the financial variables underpinning Latin America’s largest economy

    .

    Rousseff, attending a meeting of the United Nations, was not ready to declare the currency war over despite the central bank’s move. She said the real would likely remain under pressure as rich countries keep interest rates near zero and engage in expansive monetary policy to try and stimulate their economies.

    Rousseff added that countries needed to work together to tackle the global financial crisis.

    The government official who spoke to Reuters said the administration still has options available to keep the currency from weakening.

    “We have a lot of ammunition to be used or to be withdrawn,” the official said without elaborating. The comments seemed to imply that Brazil could reduce or eliminate measures put in place earlier this year to weaken the real, such as a tax on currency derivatives.

    Writing by Brian Winter; Editing by Padraic Cassidy

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